Why Doesn’t Starbucks Have A Serious Competitor in China?

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Chinese Wanda is openly challenging Disney. Uber spent $2B fighting with Didi Chuxing. Adidas has been fighting Li-Ning and Anda for decades. And Apple is now struggling against multiple rising Chinese competitors,(Xiaomi, Huawei, Oppo, etc.). One thing you can almost always count on in China: A successful international company will inspire serious domestic competition.

So why doesn’t Starbucks have a serious competitor in China? I’ve been asking people this for months and I still can’t get a good answer. It’s weird.

Starbucks has been in China since 1999 and currently has about 2,400 outlets. They have most likely had the majority of the China retail coffee market for years. And CEO Howard Schultz has recently announced plans to open 500 new outlets per year. That will get them to 5,000 China stores by 2020.

Also, on Starbucks’ November 3, 2016 earnings call, Schultz said “our newest class of Starbucks stores in China is delivering the highest AUVs, ROI and profitability of any store class in our history in the market.”

So Starbucks in China has big market share, rapid growth and apparently significant profits. Although they are breaking the #1 rule of doing business in China as a foreigner: If you are doing really well, keep it quiet.

Starbucks does have some smaller competitors in China. There is Costa Coffee from the UK. Costa is planning to have 900 China stores by 2020. There is Caffee Bebe from South Korea and Coffee Bean from Los Angeles. Both are pretty small. There is UBC Coffee (originally from Taiwan) but this is really more of a restaurant. And there is Pacific Coffee of Hong Kong, which has been majority acquired by China Resources.

You could also consider convenience stores like Family Mart and 7-11 as competitors. Certainly lots of coffee is sold there and they have a huge footprint. Also, there is McDonalds which has its McCafes. But both of those are a stretch I think.

Overall, I can’t point to any serious Chinese competitor for Starbucks. I don’t see a China Mobile, Alibaba, Suning or Wanda-type company fighting them for their customers.

I’ve been asking around about this and here are the answers I have gotten so far:

Explanation #1: Starbucks was the first mover and the market is slow to emerge.

Nestle entered China in 1990. Starbucks entered in 1999. But even as late as 2007 or so, it was not totally clear that Chinese consumers were going to drink coffee. I can remember being told over and over “You are waiguo. You don’t understand China. We like tea, not coffee”.

It took a long time for coffee to catch on in China. And even today coffee drinking is still pretty rare. In 2013, the average Chinese consumed about 4 cups annually. That compares to 441 annually in the USA (and over 1,000 cups in Norway, which I also don’t understand.). Drinking coffee has been slow to develop in China.

It also took a long time for Chinese consumers to rise enough in disposable income to afford Starbucks-type coffee. Even today, the prices in China (about 30rmb for a latte) are much more expensive than in the US on a purchasing power basis.

So Starbucks getting to the market first and having the long-term commitment to build in a slow-to-emerge market was important. Most companies were not prepared to do that. This was not a rapid consumer success story, like we have seen with Pepsi, Tingyi, Apple and others.

Explanation #2: Starbucks’ brand and scale give them an advantage in real estate.

Winning in retail coffee hinges on with getting the right locations. While customers are somewhat brand loyal, they generally won’t walk three blocks to go to Starbucks if a Costa is across the street. So getting high profile and high traffic locations is critical.

Starbucks is now significantly larger than their competitors in many Chinese cities, which means they have more outlets, more customers and greater brand recognition. This scale advantage gives them an advantage in getting the best locations. They can basically outspend their smaller competitors on real estate because they have more cash, more customers and more brand power. They can open in the nice shopping mall rather than on the side street. They can be at the entrance of the mall rather than on the third floor. It’s much harder for a smaller company to take these higher profile, higher traffic and higher price locations.

Having the higher traffic and higher profile locations then results in greater increases in sales and brand awareness – which then further increases their local scale advantage. So it’s kind of a virtuous cycle (sort of).

The explanation is that while the China coffee market looks big and fragmented, it is actually pretty consolidated when you map it out by the best locations in cities. Competing with Starbucks for these best spots is a lot harder than it appears.

Explanation #3: Senior Chinese business people just don’t like coffee.

Even if the above are true, I still don’t see why coffee outlets could not be opened by a serious China competitor. There are over 160 Chinese cities with over 1M people. And this will increase to 220 cities by 2025. So even today, there is just a lot room for a new entrant, say in Chongqing or some other region.

What is really stopping a company like China Resources from opening 500 stores? Why can’t Wanda take over all the coffee outlets in their +100 Wanda Plazas? They are doing exactly that in hotels and cinemas at the moment. Why aren’t the big boys entering?

Is it possible that the senior business people of China all grew up in an age of tea drinking? That they just never really started drinking coffee? Maybe Wang Jianlin just doesn’t like coffee?

This explanation would be consistent with the fact that the instant coffee market of China (+80% of the total coffee market) is +70% dominated by Nestle, another foreign company. Actually, come to think of it the energy market is also like +70% dominated by RedBull. Maybe China’ big business leaders just have a blind spot for caffeine drinks?

Final Explanation: It could still be a fad.

This explanation worries me a bit. There is a possibility that retail coffee in China is, to some degree, a fad. Drinking expensive coffee with friends in a nice setting is still relatively new for most of China. This has only been going on for 5 years or so for most people. It is also sort of a status thing – and Chinese consumers are notoriously fickle about what is currently cool. Could this market shrink by 20%? What if millennials lose interest? Could it be limited to just a small niche of the population? I think it is definitely possible. Maybe big companies are staying out because they don’t really believe in it long-term.

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The truth is I don’t know why Starbucks doesn’t have a serious competitor in China. It seems very strange to me. So I am really asking for opinions. I would appreciate any thoughts you might have.

Thanks. Jeff

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I write about how rising Chinese consumers and competitors are changing the world. If you would like to read my posts, please click ‘Follow’.

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